Worst is behind Balrampur Chini. Buy for Target Price of Rs 465 (21.6% Upside)

The 1HFY23 performance of Balrampur Chini (BRCM) was impacted by lower spread on sugar (sugar realisation – opening inventory valuation) and seasonality (as seen in Exhibit 1). In contrast, 2HFY23 (especially 4QFY23) will look very strong on account of seasonality. Moreover, FY24 will be a blockbuster year on the back of a) improved sugarcane crushing volume (yield normalisation and increase in area under sugarcane), and b) full ramp-up of distilleries (Maizapur and Balrampur). Our estimates/TP remains unchanged. We maintain BUY on BRCM with a Sep’23TP of INR 465 basis 15x Sep’24 EPS. We remain positive on the Indian Sugar sector given favourable regulation (intended towards the survival of the weakest mill), which augurs well for efficient companies like BRCM. Key risks: Lower-than-expected cane crushing volume and any unfavourable change in government regulations.

► Why seasonality in sugar segment (production and profitability)?: a) Sugarcane crushing for BRCM, just like other mills, starts in Nov/Dec and ends in Apr/May depending on cane availability (production occurs in 5 months and sales over the next 7 months), b) On the other hand, overhead costs (factory costs; c.INR0.8bn JMFe) are incurred every quarter and charged to P&L, c) Inventory valuation is done on cumulative basis (e.g., 3QFY23 will consider 9MFY23 costs and sugar production and, hence, cost per unit will be higher than realisable value), d) Inventory valuation is done following principle of CoP (cost of Production) or NR (Net Realisable Value) and there is inventory loss in the first 3 quarters. This gets reversed in 4Q and, hence, appears as the best quarter (cumulative costs and cumulative sugar production).

► Why was 1HFY23 impacted?: BRCM had an underwhelming 1HFY23 with a reported loss of INR 197mn (vs. INR 1.5bn profit YoY) on account of a) erratic weather conditions in its catchment areas and cane disease (red rot) impacting yields (and, hence, crushing volume), b) lower gross/net recovery rate (c.-30bps YoY), and c) higher diversions of sugar for ethanol (resulting into lower sugar production). As a result, cost of inventory as of Mar’22 stood at INR 34.2/kg as compared to INR 31/kg in Mar’21. This inventory has got liquidated in Apr-Nov at a gross spread of INR 1.5/kg (as compared to INR4/kg in the previous year). This, coupled with inventory loss (as explained above), resulted in a significantly weak 1HFY23, particularly in the sugar segment.

► Distillery ramp-up to boost FY24 performance: BRCM is expanding its distillery capacity from 520KLPDto 1,050KLPD in FY23 (of this, the 320KLPD Maizapur distillery commissioned in Nov’22), leading to distillery volume jumping to 350mn litres in FY24 (31% 3-year CAGR). This, thereby, enhances the proportion of revenue generated from ethanol from 19% in FY22 to c.35% in FY24.

► Remain constructive on the sector; reiterate BUY on BRCM: We remain positive on the sugar sector (especially efficient companies) as government policies (sugarcane price/MSP/ethanol prices) will ensure survival of the weakest. While the regulation of sugar exports appears optically negative, we are convinced that it is aimed at a) ensuring adequate stock for local consumption, thus avoiding any undesired rally in domestic prices, and b) continuity in the ethanol programme (ethanol momentum could get upset in case of a significant rally in sugar prices). BRCM continues to be the best among the sugar pack, in our view. We maintain BUY rating on Balrampur Chini (CMP-INR 374; Sep’23TP- INR 465).

► Industry updates (sugar production and prices): As on 30th Nov’22, India’s sugar production was 4.79mt (+1% YoY). While Maharashtra produced 2mt (-1% YoY), UP produced 1.1mt, +8% YoY. ISMA, in its 1 st advance estimates for SS23, has pegged sugar production at 36.5mt, assuming diversion of 4.5mt for ethanol. The government has announced 6mt exports quota and mills are estimated to have contracted for over 3.5mt already given robust global sugar prices. Domestic sugar prices have been stable in the past 3-4 months.